Clearinghouses Should Divulge More Risk Information, Report Says

Feb. 5 (Bloomberg) -- Derivatives clearinghouses should
standardize and report more information on risk management
practices so bank members can assess the threats they face,
according to a report sponsored by the Federal Reserve Bank of
New York.

Clearinghouses, which are meant to lessen the effect of
default by requiring collateral and marking positions daily so
losses don’t build, should make information available on how
operations are governed, margin is set, defaults are managed and
the credit of bank members is monitored, according to the report
today by the Payments Risk Committee, a group of banks including
JPMorgan Chase & Co., Goldman Sachs Group Inc., Morgan Stanley
and UBS AG.

“The ultimate goal is that clearing member banks will not
only have the tools and data necessary to better evaluate
specific risks that they face, but that in so doing all market
participants will better understand the unique and critically
important role played by” clearinghouses, the report said. That
will enable “potential systemic risks to be addressed before
they have the opportunity to surface.”

Clearinghouse owners that participated in the creation of
the report included CME Group Inc., Intercontinental Exchange
Inc., LCH.Clearnet Group Ltd., the Depository Trust & Clearing
Corp., Eurex AG and the Options Clearing Corp. The 2010 Dodd-Frank Act requires most interest-rate, credit-default and other
swaps to be processed by clearinghouses to reduce systemic risk
and offer regulators more information about market participants.
The report’s recommendations are voluntary and non-binding, the
Payments Risk Committee said.

Information Push

The move to obtain more information from clearinghouses
started last year in non-public meetings as Citigroup Inc. and
JPMorgan pushed CME Group, Intercontinental and LCH to reveal
more about their finances and risk-management policies, people
with knowledge of the matter said last year. Lenders also want
to know more about whether collateral is being calculated
correctly, according to an executive at a large dealer. They
asked not to be named in order to speak candidly.

Banks want to make sure they “don’t find out at the moment
of maximum fail potential” that clearinghouses haven’t kept
enough capital, Paul Galant, a Citigroup executive who leads the
New York Fed’s Payments Risk Committee, said at the time. Galant
was not listed as participating in the report issued today.

Collecting Collateral

Clearinghouses cut risk by collecting collateral at the
start of each transaction, monitoring daily price moves and
making traders put up more cash as losses occur. Traders have to
deal through clearing members, typically the biggest banks and
brokerages. Unlike privately traded derivatives, prices for
cleared trades are set every day and publicly disclosed.

The role of clearing was expanded by Dodd Frank based on
the track record of clearinghouses during the 2008 credit
crisis. The idea took hold after Lehman Brothers Holdings Inc.
failed in 2008 and LCH settled $9 trillion of derivatives linked
to interest rates held by the New York-based investment bank.
LCH needed only about two weeks and 35 percent of the collateral
Lehman had posted, Dan Maguire, head of U.S. operations at LCH’s
SwapClear service, said last year.

Derivatives help investors hedge or speculate on commodity
prices, interest rates or, in the case of credit-default swaps,
the financial health of firms or nations. “Swaps” is Wall
Street’s shorthand for bets in which investors swap payments
back and forth with each other during the life of a derivative
as prices rise and fall on the specified asset. Some contracts
can last for a decade or more.